Asset ROI (RoFA)

What is Asset ROI (RoFA)?

Asset Return on Investment (Asset ROI) or RoFA (Return on Fixed Assets) measures how much money the company makes in return for its assets.

There are two main KPIs to assess the returns from fixed assets: RoFA (Return on Fixed Assets) and FAT (Fixed Asset Turnover Ratio).

 

What is Return on Assets (RoA)?

Definition and Importance of RoA

Return on Assets (RoA) is a financial ratio that measures a company’s profitability in relation to its total assets. Essentially, it indicates how efficiently a company is using its assets to generate earnings. The return on assets ratio is calculated by dividing net income by total assets. This metric is crucial for investors, analysts, and management as it provides a clear picture of how well a company is utilizing its resources to produce profit. A higher RoA signifies more efficient use of assets, which is a positive indicator of a company’s operational performance.

How to calculate RoFA (Asset ROI)

RoFA = Current Operational Income / Investment Cost

Imagine a company sells $5 million worth of goods but has spent $20 million on machinery.

From the RoFA formula, we have:

RoFA = $5,000,000 / $20,000,000 = 0.25

But what does RoFA (Asset ROI) mean?

In practical terms, it means the company is getting $0.25 for every $1 spent. Therefore, it’s safe to say RoFA (Asset ROI) is a good indicator of both return on investment and profitability.

There isn’t a standard you should strive for when it comes to RoFA (Asset ROI).

For example, industries that are capital-intensive and require a huge amount of fixed assets have a lower RoFA (Asset ROI). However, their return on fixed assets should improve over time as income grows. More than trying to hit a standard, monitor the direction in which RoFA (Asset ROI) is going.

What is FAT or FATR?

FAT or FATR means Fixed Asset Turnover Ratio, and it measures how much the company uses its assets. To calculate FAT, divide net sales by the average fixed assets.

How to Calculate Fixed Asset Turnover (FAT):

FAT = Net Sales / Average Fixed Assets

Imagine a company sells $5 million worth of goods. In the beginning of the year, its assets’ beginning balance was $2m. In the end, it was $1.9m.

FAT = $5,000,000 / ($2,000,000 + $1,900,000) / 2 = $5,000,000 / $1,950,000 = 2.56

This means the company earns approximately $2.56 per $1 spent on assets.

Note that FAT is not an indicator of profitability or cash flow. What it shows is how well a company uses the assets it already has. A higher ratio means you’re using assets more effectively, but there isn’t a global benchmark.

Interpreting Return on Assets

What Return on Assets Means to Investors

Return on Assets (RoA) is a key indicator of a company’s ability to generate profits from its assets. For investors, a high RoA indicates that a company is efficiently using its assets to produce earnings, which can be a sign of strong management and operational efficiency. Conversely, a low RoA may suggest that a company is not utilizing its assets effectively, potentially pointing to inefficiencies or poor management practices. Investors often use RoA to compare the performance of different companies and to evaluate the potential return on investment.

Comparing Return on Assets Across Companies

When comparing RoA across companies, it’s essential to consider the industry and sector in which the companies operate. Different industries have varying levels of asset intensity, and therefore, RoA can vary significantly. For example, companies in the technology sector may have a higher RoA due to their lower asset base, while companies in the manufacturing sector may have a lower RoA due to their higher asset base. Additionally, companies with a high RoA may not necessarily be the best investment opportunity, as other factors such as growth prospects, management quality, and valuation should also be considered.

To accurately compare RoA across companies, it’s crucial to use a consistent calculation method and to consider the following factors:

• Industry and sector
• Asset base and intensity
• Growth prospects
• Management quality
• Valuation

By considering these factors and using a consistent calculation method, investors and analysts can gain a deeper understanding of a company’s RoA and make more informed investment decisions.

In conclusion, Return on Assets (RoA) is a vital metric for evaluating a company’s profitability and efficiency. By understanding the definition and importance of RoA, interpreting its meaning, and comparing it across companies, investors and analysts can gain valuable insights into a company’s performance and make more informed decisions.

How to Improve Return on Fixed Assets

The obvious way to get more return on fixed assets is to extend their useful life, and this is where maintenance really shines. If you manage to keep assets in optimal condition through routine maintenance, production never halts, machines last longer, and therefore you get more return on investment.

Plus, you’ll avoid excessive spending on emergency maintenance and losses due to disruptions and downtime.

Maintenance and Repairs Expense to Fixed Assets Ratio

If you’re thinking maintenance will eat a big portion of your budget, you should monitor the maintenance and repair expenses to fixed assets ratio. Here’s the formula:

Maintenance Repairs Expense on Fixed Asset Ratio

                                                                =  Maintenance Repairs Expense / Total Fixed Assets

Where total fixed assets equals the cost of assets, and not their value after depreciation. If this ratio goes up, it means your fixed assets are becoming more expensive to upkeep. The lower the ratio, the better, and anything under 10% is very good. (Unless, of course, you’re not performing due maintenance – in which case you’ll also have a low fixed asset turnover ratio).

A high ratio means your fixed assets may be too worn out and not be worth the costs. So, like depreciation, it’s a good indicator of whether you need to replace a fixed asset or not.